A Rubik’s Cube of Risk
Hong Kong and China – Strife in the S.A.R. – “Be like water.”
With ‘everyone’ on vacation this week, seasonal angst in full bloom and geopolitical heebie-jeebies keeping us up all night, every night, we’re bushed. Our nerves are frazzled, Fall is upon us, pockets of the world resemble the dark frescoes of Francisco Goya (below) and certain political perversities are in accelerated motion. It’s all mental and sort of dispiriting — like the final set of an Aphex Twin show when the ecstasy wears off and your brain’s serotonin starts to ebb.
The culprits: trade tensions, spasms in Hong Kong (a brewing insurgency, actually!), PLA front-loading, German contraction, ‘Italeave’, the Epstein rub out, Argentina’s wobbles, Kashmir chaos, Russia’s mini Chernobyl, Iran tanker shenanigans, ‘de-globalization’, etc. Oh, add to that mix market ructions that will make your cortisol levels spike plus the broad-scale breakdown of quant models (swoon → hedge funders and CTAs!).
It all adds up to a rippling matrix of macro risk, global skitzoid-ness and fast stochastics featuring yield curve inversions, neomedievalism, quantum geo-economics, David Lynch-style statecraft and one hyperpower (America) colliding with one revanchist racketeer (China), who wants to subvert the whole shebang.
But with all the grand mal seizures, negative externalities, entropy, anarchy and vertigo, China will be forced to wind down. We’re not saying ‘the end of the Middle Kingdom is nigh’ or anything, but China is properly fucked. Ditto Hong Kong. Why? Because China’s political economy has a chronic financial disease called extreme indebtedness coupled with extreme incompetence. It is also up against a seriously formidable adversary in the form of America, its alliance network and its pugilistic President — a mega-producer of geopolitical and economic mayhem.
The place is run by command and control freaks and commie poobahs who want to suppress all dissent and indoctrinate everyone with party propaganda — including the liberty-loving, democracy-seeking denizens of Hong Kong — now fully infiltrated by paramilitary goons (and fully contaminated by mainland parasites). Hong Kongers have had enough, especially the brazen youngins, who are now being dubbed ‘terrorists’ by the Mandarin elite for their flash mob tactics and laser beam barrages. They’re just not keen on China’s Orwellian police state.
Xi and his radical CCP cadres would be super foolish to invade Hong Kong, the only semi-free, capitalist enclave in that otherwise procrustean land. China is now living on the verge of a nervous breakdown and experiencing a slow mo economic implosion; as soon as the big guns wrap up their summer shindig at Beidaihe, they will issue the fateful order, instructing the PLA commanders (Maj. General Chen Dao Xiang and Wang Ning) to bum-rush the territory, thereby bringing the ‘one country, two systems’ experiment to a violent end. Yuk. Taiwan will be watching, cringing and strategically hedging (scooping up more F-16s – below – to defend its sovereignty and territorial integrity) along with the rest of the free world.
But this is where the end of Chinese communism begins. Mainland China’s illusory boom is now going bust courtesy of the Golden Child and his puissant disruptors (the commies are furious with Steve Bannon and Peter Navarro, of course — the sassy architects of the ‘trade war’). We believe Hong Kong, perched on the edge of the Asian continent far from the center of communist power in Peking, will trigger regime change on the mainland when the troopers go in.
Most China observers are skeptical of this argument, but they forget that Chinese rebellions and revolutions often start at the periphery and then work their way to the center. The Qing dynasty of the Manchus, the last imperial reign, unraveled from the edges, as did others. Hong Kong is now the chaotic epicenter and accelerant, and intervention there will boomerang back on the regime in non-linear and self-defeating ways.
Why? Hong Kong is currently the center of China’s ability to raise US Dollars in Asia. China is desperately short of US dollars and, therefore, needs Hong Kong to remain a non-tariffed most-favored-nation trader with the United States, the United Kingdom and other free, techno-industrial, IP-rich economies. Fundamentally, China relies on Hong Kong as a conduit for capital to fund highly-levered projects across the border, underwrite IPOs, subsidize state owned ‘zombie’ enterprises, arbitrage taxes and invest in realestate ‘outside’ of the mainland.
Also, China’s uppercrust use it as a playground for shopping, boozing and philandering, and send their kids to better, cleaner schools there. It is also the perfect place for party cronies to abscond with cash, peddle contraband or cavort with mistresses. Gaggles of mainland girls flock to Hong Kong to hatch babies because medical care is superior and tots born there automatically receive the right to permanent residency.
The relative economics matter: China’s per capita income is only $11,000 per person compared to per capita income of $65,000 in the United States. Put differently, the U.S. is only 38% richer than China on a gross basis, but it is 500% richer than China on a per capita basis. Moreover, China’s net debt amounts to 260% of GDP with a super-bloated banking system stuffed with NPLs, dud collateral chains, Ponzi plots and rehypothecated junk. China’s closed capital account and dollar-denominated liabilities amounts to a ticking thermobaric time bomb.
China’s military is growing stronger and more modernized (it systematically steals Western weapons designs, after all), but it still bears no comparison to U.S. force projection when it comes to aircraft carriers, nuclear warheads, submarines, fighter aircraft, strategic bombers and the professionalism/prowess of the officer class. Moreover, China has almost zero combat experience and, according to Rand Corp, 59% of PLA soldiers have below par eyesight (they can barely shoot straight) and can’t even do 13 pull-ups at PT.
In economic terms, at $11,000 per capita GDP, China is stuck squarely in the ‘middle income trap’ as defined by development economists. The path from low income (about $5,000 per capita) to middle-income (about $10,000 per capita) is fairly straightforward and requires streamlining corruption, constant foreign direct investment (FDI), smart migration and rational resource allocation.
The path from middle-income to high-income (about $20,000 per capita) is much more difficult and involves the creation and deployment of advanced technology for the production of high-value-added goods, services and the exercise of good corporate governance.
Among developing economies (excluding oil producers), only Taiwan, Hong Kong, Singapore and South Korea have successfully made this transition since World War II. All other developing economies in Latin America, Africa, South Asia and the Middle East including giants such as Brazil and Turkey remain stuck in the middle-income ranks.
China remains reliant on repetitive, assembly-style jobs and has shown no promise of breaking into the high-income echelons. Moreover, the reorientation of Western supply-chains out of China to friendlier, freer countries will stymie China’s development and undermine its competitiveness.
In short, and despite exponential growth in the past twenty years (via pilfered IP — mostly American), China remains fundamentally poor with limited ability to improve the well-being of its citizens much beyond what has already been achieved.
Right now, China is confronting social, economic and geopolitical pressures that are testing the legitimacy of the Communist Party leadership and will likely lead to a political economic crisis of the first order fairly soon. Regime change will inevitably follow.
The unrest in Hong Kong is just another symptom and accelerant of the weakening grip of the Chinese Communist Party on civil society. The viral unrest has spread from park protests to a general strike (that rarely happens in HK!) and the closure of critical infrastructure, including the MTR, bridges, tunnels and the airport.
This social unrest will spread until China is forced to invade Hong Kong with 30,000 PLA troopers, who are now front-loading at Futian (by the Shenzhen border). This will be the last nail in the coffin of the naive view of China as a ‘good global citizen’ and benign sovereign. That view was always fallacious, but now even the pollyannas are starting to realize the excesses of Peking’s tyranny and the draconian nature of the CCP (think Tiananmen 2.0).
But the commies will sabotage themselves in the process, and take Hong Kong down with them. What a shame! Hong Kong’s status as a global financial center and cosmopolitan entrepôt with reliable legal and admin systems will be shattered the moment mainland troops move in.
The arc of this story follows the breakup of old arrangements, fissuring power relations, arrogant dynasties and expectations about what ought to be. The leaders of the free world — especially Mssrs Trump and Johnson — should dispatch the infantry, air force and navy at once to defend Hong Kong (and Taiwan) from the despotism of the commie mob! China is legally in breach of the promises of autonomy made when it took back Hong Kong in 1997 — a blatant violation of contract and contravention of the Sino-British Joint Declaration.
In the near term, exchange rate volatility will increase, bankruptcies will proliferate, an exodus will ensue, expats will skidaddle, capital flight will accelerate, and Hong Kong will become the newest Sino ghost town.
The United States’ uncontested supremacy — military, geopolitical, economic and cultural — and President Trump & Co.’s cunning containment policies aimed at punk players makes the Middle Kingdom‘s autocrats miffed and mystified. China’s Standing Committee — playing with a Rubik’s Cube of existential risk — is being left cross-eyed and flummoxed in this new Cold War without the mojo and miracle economy of yesteryear. The ruling cliques and cadres are now moving into a season of grave discontent.
The Communist Party of China (CPC) is a story with a beginning, a middle, and an end — and 70 years on (October 01 is the big anniversary!) we’re closer to the end than we are to the middle. The big cheeses there, battling threat vectors on multiple fronts, are starting to feel the toilsome push back internally and externally. Consequently, China’s hegemonic ‘grand strategy‘ is predictably giving way to paralysis, skepticism, anxiety and atrophy. Hong Kong, ironically, is the multidimensional bugaboo in this David Lynch theater of global political economy. Xi whizz. Now pass the popcorn.
Images Wikimedia Commons + Ai Weiwei + The Global Times
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